Don't feed the zombies Essay on survival of bankrupt firms in French bankrupcty courts

Open Access

Abstract

"Don't feed the zombies" is the bottom line argument to condemn the risk in pro-continuation bankruptcy systems, promoting survival of non-viable businesses. Feeding this firms may prevent reallocation of capital from distressed firms to healthy ones. It may also destabilize bargaining power between debtors and creditors, reinforcing the former. Here we want to test the truth of this argument by looking at the French reform of the commercial jurisdiction in 2011. The procontinuation bias is modeled looking at the proportion of firms that the court decides to reorganize despite them not having enough assets to cover all the legal bankruptcy costs. Theses firms are considered zombie firms. We examine whether jurisdictions differ in their decisions after a change of the judicial maps. Some courts may have been absorbed or may have absorbed others while some remain unaffected. We are able to pin down structural motivations for pro-continuation bias with no other legal changes and within a single country. After a court is absorbed, this bias drops significantly. Yet the overall survival rate of reorganized firms remains the same. These results show how proximity to the parties may help judges take decisions despite counter-intuitive negative financial information. But theses rulings are made with no regard to the firm's creditors. Since it is only the smaller courts that are absorbed by larger ones, the paper also gives hindsight on the effect of court's size on bankruptcy.